Holy cow, Batman! But wait, there's more. He goes on cite reports that "the cash used in the Watergate scandal came through the Fed."

What next, I wonder? I can hardly wait to read his memoirs; of the trips he took with little green Martians to faraway galaxies, of the conversations he's had with the deceased, and so on. This man is an embarrassment to all libertarians.

Friday, February 12, 2010

The United States and the Eurozone are both currency unions. Member states within each union are prohibited from issuing the common currency. Money creation is delegated to a central authority (the Federal Reserve in the U.S. and the ECB in the Eurozone). The US dollar and the Euro are both major world currencies.

Given these similarities, my question is this: Why is the recent Euro depreciation being explained by the fiscal problems experienced by a subset of Eurozone members?

Actually, let me put the question another way. Why are state-level fiscal problems in the American Union not associated with sharp depreciations in the USD? (California, by the way, is an economy larger than Greece, Portugal, and Spain combined).

One difference between the U.S. and the Eurozone is that the latter has no central tax authority to accommodate wealth transfers (bailouts). In fact, Article 103 of the Euro Treaty explicitly states that the EU shall not be liable for or assume the commitments of central governments.

Another difference between these two unions is that there is no counterpart to U.S. treasury debt in the Eurozone. Hence, while the Fed "monetizes" federal-level debt; the ECB "monetizes" state-level debt (in this case, sovereign debt).

So, perhaps the answer to my question is as follows. When California experiences a fiscal crisis, markets expect it to be bailed out by federal transfers; the market does not expect the Fed to monetize California state debt. This does not pose a direct inflationary concern, and hence is ignored in the FX market. The opposite holds true for the Eurozone; hence, the direct impact on the exchange rate.

There are several reasons why I am not satisfied with this answer. One has to do with my preferred theory of the exchange rate, but I'll leave this aside for now. The other has to do with the perceived credibility of the ECB. I doubt very much that the ECB will monetize Greek debt (and if it does, it will discount it heavily) and I don't think the market believes this either. The market likely believes that a bailout is coming (you don't actually believe that Article 103 is credible, do you?).

The bailout will be sold as "saving Greece;" but in fact, the bailout will in effect save the Germans and other Europeans holding Greek bonds. In short, a typical wealth transfer. Disgusting, perhaps...but inflationary, no.

Friday, February 5, 2010

For those of us who are "either not thinking hard enough or a Republican running for office," former Secretary of Labor, Robert B. Reich, has an economics lesson for us; see here.

I had a good chuckle over this:

You don't have to be an orthodox Keynesian to understand that as long as the private sector is deleveraging, the public sector has to borrow and spend to keep the economy moving forward.

You don't? Holy cow...this is essentially the defining characteristic of "orthodox" Keynesianism!

Look, maybe a case can be made for a deficit-financed government spending program. But surely, in making the case, we deserve better than this?

Do we not need to know first why the private sector seems reluctant to spend? If we have just lived through a period of "excess,'' might it not be prudent to cut back on spending? Or is it the role of government to replace private excess with public excess?

The collapse in private spending is primarily in investment. Why are businesses holding back? I have heard business people say that they are afraid to invest right now because they are so uncertain about the future course of government policy. Given this uncertainty, it is probably prudent to withhold investment, until it becomes clear where it may be most profitably allocated. And if this is a reason for depressed investment activity, this is an example of government failure, not market failure.

Or is it, as the "spend your way to prosperity" crowd would have us believe, simply a matter of "irrational" psychology? The private sector is evidently afraid to spend, for no good reason at all. This calls for bold government action. The government evidently knows that the fundamentals have not changed. Just charge forward and spend...and all will be well.

O.K., well here is a question: Spend where? If what we are experiencing is really just a psychologically driven "negative aggregate demand shock" -- the "demand side hole" suggested by Reich -- then how to explain the following data?

<>I presume that Reich would recommend targeting government money to plastics, motor vehicle parts, furniture, printing, and textile mills. The presumption must be that these sectors are declining for no good reason at all. I'm not sure how he would explain the expansion in semiconductors, communications equipment, computers, electricity, and oil and gas. How did these sectors miss being dumped into the great demand-side hole?

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